Tag Archives: gold

a falling gold price–what does it mean?

April 15, 2013 By in emerging markets, Gold, Industry Analysis, Recent Market Action Tags: , , , , , , , , 3 Comments

Back in the day, I was, among other things, a gold mining analyst.  That period left me with an enduring fascination, not about the yellow metal itself, but about gold “bugs”–the people who are obsessed with gold and who buy it as an “investment.”  I have the same complex mixture of feelings about gold bugs that I have about survivalists, Civil War reenactors, model railroad buffs and people from Brooklyn.  It’s not exactly “There but for the grace of God…”, but that’s the general direction.

I really don’t get gold as an investment.  Yes, it’s shiny and there may actually be gnomes in Zurich.  Until the mid-1970s, gold did serve as a kind of money worldwide.  But no longer.  One exception:  developing economies where either there are no banks for businesses to use, or where people don’t want/trust banks to know about their finances.

Contrary to what I think is popular belief in the US, virtually all the demand for gold comes from the developing world.  The US accounts for 5% of purchases, the EU 10%.  Japan is a non-factor.  Last year, as usual, India was the #1 buyer of gold, at 28% of the total.  Greater China took 25%.

Before the Great Recession, the large bulk, maybe 3/4th, of the world’s demand for gold was for jewelry (although much of this did double duty as chuk kam 99.9% gold trinkets). 10% was for technology or dentistry.  The rest was gold bars and coins bought as an “investment.”  The bulk of that demand was supplied by mine production, with the rest coming from recycling and steady selling by central banks in developed countries.

The GR changed that pattern, in two ways.  Demand for gold bars and coins more than tripled.  Central banks in the developed world stopped selling, while their counterparts in emerging economies began to buy gold like there was no tomorrow.  Between 2009 and 2011–which appears to have been the peak of this activity–the gold price doubled in US$.

Gold ETFs?  They peaked in 2009 at about 17% of world gold demand.  By 2011 they had shrunk to 4%.

What’s happening now?

The gold price has been slowly declining for two years, without attracting much attention, as panicky buying by gold bugs has waned.

What’s new is India.  The biggest drain on India’s growing trade imbalance is its citizens’ continuing demand for gold–both for jewelry and because the country’s banks don’t work.  New Delhi has decided to deal with the steady flow of cash out of the country by taxing gold imports.  At least to some degree, this will put the metal’s chief buyer on the sidelines.  That won’t stop mines from churning out the stuff, however, until/unless the gold price drops below their cash cost of production.  That’s a looong way down.

Elsewhere, “investment” demand appears to be waning.  Less significant in the short term, Chinese tastes seem to be slowly shifting away from chuk kam to fashion or statement jewelry with lower gold content.  And, of course, more dentists are using ceramic teeth and PC demand is slowing.

In other words, the supply/demand picture for gold is looking less favorable for prices.  The price decline has nothing to do with inflation fears in the US or EU subsiding, or renewed faith that either area is suddenly on a sounder economic footing.

why is the gold price falling?

March 29, 2012 By in Gold, Industry Analysis, Uncategorized Tags: , , , , , , Leave a comment

my take on gold

I have strong views on gold.  I don’t think it’s money (it used to be, but isn’t anymore in most parts of the world).  It’s no more–and no less–an inflation hedge than any other physical asset like, say, real estate or timberlands or diamonds or oil.

One exception:  in developing countries where people want to hide their wealth or don’t trust the banking system and where barter is an accepted way of doing business.  In these cases, the facts that you can bury gold in the back yard or break off a link in a 99.9% gold chain and give it to a merchant to buy stuff come in handy.  Think:  India or Vietnam.  And, of course, these transactions, like most barter, are by and large off the books.

I began to realize this in the mid-1980s when I saw that my acquaintances in Hong Kong had long since dumped all their physical gold and had forex trading accounts instead.

worldwide gold demand is an emerging economy phenomenon

Worldwide consumer demand for gold by country in 2011, as reported by the World Gold Council, breaks out in tons as follows:

India     933.4

China     769.8  (Greater China = 811.2)

Middle East     199.8

US     194.9

Turkey     144.2

Thailand     108.9

Vietnam     100.3

Everybody else     957.3.

It’s also telling that in the US, where about one in five citizens don’t have a bank account (because it’s too expensive), we’re not set up for people to plunk down a doubloon to buy a used car.

sharply increasing money creation in the developed world

Be that as it may, over the past few months we’ve seen a substantial increase in government money creation in the EU and in Japan.  We’ve also just heard Mr. Bernanke reaffirm that he intends to keep interest rates in the US at the current extraordinary low levels for a long time to come, despite increasing signs that the economy is picking up steam.

All of this spells the increased possibility of a future inflation problem.  Why, then, is the gold price falling rather than going up?

trends in India

I think the largest part of the reason lies in India, which comprises well over a quarter of worldwide consumer demand for gold.  (If we reckon that purchases of 14k or 18k jewelry isn’t investment demand, then India alone could comprise as much as 40% of the global (non-central bank) investment market for gold.)

Two factors:

–as the economy in India has been cooling down over the past half year down and inflation picks up, Indian demand for gold has gone down, not up,

–perhaps more important, in its latest budget, the Indian government is proposing two new gold taxes:  a doubling of the import tax on the yellow metal to 4%, and a new .3% levy on all gold purchases.  In response to the latter, gold shops in India have closed down on strike for almost two weeks.

higher gold prices ahead: the 3Q10 report of the World Gold Council

November 18, 2010 By in China, emerging markets, Gold, Industry Analysis, Japanese development Tags: , , , , , Leave a comment

The conclusion is mine, but the support comes from the just released 3Q2010 report of the World Gold Council, a leading authority on the yellow metal.

The highlights:

world demand

Identifiable world demand is actually up by 12% year on year, despite a 28% rise in the US dollar gold price over that time.  Buying of gold, year to date, breaks down into the following categories by tons:

jewelry 1468.3 t, up 8% year on year,  comprising 52% of demand

Industrial/dental 320.5 t, up 13% year on year, 11% of demand

investment 1350.2 t, up 19% year on year, 37% of demand.

 

Geographically, third quarter consumer demand (i.e., excluding industry and central banks) breaks out as follows:

India     33.2% of demand.   Purchases up 28% year on year, mostly jewelry

Greater China     22.2%     purchases up 16% year on year, mostly investment

Middle East     9.7%     purchases down 10% year on year, mostly lower jewelry

United States     8.9%     purchases up 8% year on year;  jewelry down, investment up

Western Europe     7.6%     purchases down 3% year on year

Turkey     6.8%     purchases up 35% year on year, virtually all investment

Vietnam     3.3%     purchases up 17% year on year; jewelry down, investment up

Thailand     3.2%     purchases up 139% year on year;  jewelry down, investment up

Russia     2.6%     purchases up 17% year on year, on jewelry demand

everybody else     2.5%.

Industrial demand, which is primarily for technology products, has already rebounded to the pre-crisis levels.

Central bank activity has been, from a private investor’s point of view, really odd.  Until 1Q09 and at prices at or below $900 an ounce, central banks were heavy sellers.  Since then, they have turned into big net buyers.  Russia has added 46.2 t to its stockpiles, Thailand 15.6 t, Sri Lanka 6.9 t and the Philippines 4.2t (through late August).

Investment demand breaks out into three categories:

–hoarding of bars, coins, medals–mostly in developing countries, which accounts for 55% of investment and is up by about a third vs. 2009,

–ETFs and similar products, which accounts for 33% of investment and is down by about 40% year on year, and

–“other” identified retail investment–mostly coins bought in the US and Europe, which accounts for 12% of investment and is  also down by more than 40% year over year.

world supply

Happily, supply is much more straightforward than demand.  It comes from:

mine production     62% of supply, up 3% year on year

recycling     41% of supply, down 1% year on year

central bank sales     -3% of supply (since central banks have turned net buyers)

my thoughts

On the supply side first, I don’t think there’s any reason to expect a large increase in the supply of gold from current levels.

Yes, higher prices will make new gold mining projects (which can be developed relatively quickly) economically viable.  At the same time, however, prudent mining practice calls for existing mines to process progressively less gold-rich ore as prices rise.  That way, they maintain profits in boom times, but save higher grade ore for a rainy day.

Again, higher prices should mean more recycling.  But one of the reasons for the sharp increase in recycled gold over the past few years is the recession-induced development of a gold recycling industry in the US.  Output here has presumably reached a steady-state level.  More important, the World Gold Council thinks the rest of the world has pretty much run out of gold lying around to be recycled.

Central bank sales are harder to figure.  Luckily, they’re not that large in the overall scheme of things.  On the IMF still has about 50 t. of gold to sell.  On the other, Russia is carrying out a program to increase central bank holdings of gold.  And some smaller, less stable governments, appear to want to remain net buyers as well.

As to demand, the figures above should make it clear that gold is a developing world phenomenon.  The US and Western Europe make up only 16.5% of consumer demand and 12% of non-ETF investment purchases. (By the way, Japan isn’t mentioned on the consumer list.  That’s because Japanese individuals have been net sellers of gold this year.)

India alone is a third of the overall market for gold.  It and China together make up more than half of global demand.  In India, buyers want pure gold, to serve both as adornment and savings.  The same is true for China, though 18k jewelry has been making inroads.   So demand in both places should be a function of economic growth.  If the two were to intend to buy gold next year at only half the current pace–and I think that’s a very conservative estimate–this would mean almost over a 6% increase in total demand.

Absent an increase in recycling, which the WGC says is unlikely, I don’t see where the extra gold will come from.  Even ignoring demand from fiscally unstable areas like Turkey or Vietnam, or continuing central bank buying, as positive factors, it think this spells higher gold prices in 2011.


 


 

 

 

 

 

The World Bank’s “new gold standard”–what’s that about?

November 9, 2010 By in China, economics, Gold, Recent Market Action, reserve currency Tags: , , , , , , , , Leave a comment

Robert Zoellick, an American who’s head of the World Bank, has recently called, in an op-ed piece in the Financial Times, for the nations of the world to agree to a new framework of international economic cooperation that would be tied together using gold as a “reference point” for value.  “…markets are using gold as an alternative monetary assets today,” he writes.  Gold shot up on this news.  There’s also been an outpouring of nasty comments by professional economists deriding the idea as nonsense.  What is this about?

gold (my view, anyway)

I’ve come to realize that–contrary to my conscious belief that I don’t care that much one way or the other about gold–that I actually do have deep-seated convictions about gold.  Unlike some of my other beliefs, they’re not simply plucked out of the blue, but derive from my having spent close to ten years analyzing natural resources industries, especially metal miners.  This was at a time when, having virtually bankrupted themselves developing massive deposits of base metals, miners were concentrating on gold. (That’s because gold deposits offer high value in small deposits, making them faster and cheaper to develop.)  At the same time, I was also studying the developing countries that are the main sources of demand for the yellow metal (you can find more under the “gold” tab on my blog).  I have three basic conclusions.

1.  Gold is not some sort of proto-money, Ur-money or the “essence” of money.  It’s a metal that used to act as money, but doesn’t in most places any more.  Its virtues are that a small weight/volume contains a lot of value.  You can wear it.  You can break off little pieces to buy stuff.  And, if you want, you can bury it in the back yard so no one–especially the government–knows you have it.  It’s also great if you don’t trust the banks to give back the money you have on deposit.

If you don’t need these attributes, gold is a waste of effort.  You have to safeguard it.  You have to assay it all the time in significant transactions.  And you have to deal with a potentially large bid-asked spread.

2.  Gold doesn’t give inflation protection.  Yes, it has gone up a lot during the past decade.  But that’s not the same as protecting against inflation.  Since 2000, the price level in the US has risen by about 25%.  Gold is up by 450% during the same period.  Not a great match.

From 1980 to 2000, the domestic price level rose by about 80%.  The gold price fell by over 50% during those two decades.

3.  The more you look, the less historical evidence there is for any of the gold bugs claims.  Maybe this is #2 all over again.  But, for example, during the early days of the nineteenth century, metal coins were used as a common medium of exchange in the US.  But they were silver, not gold.  And Spanish coins were preferred to ones from the US, because of their higher purity.

a “true” gold standard

In its purest and simplest form, this means that the money that circulates is either itself gold or is exchangeable into a specified amount of gold on demand.

I don’t think any serious student of economics or history advocates a gold standard in this sense, despite its two positive points:

1.  Governments can’t just print money, willy nilly, to pay for stuff.  No extra gold means no extra money.

2.  Countries have to watch their foreign exchange positions carefully.  A trade deficit is extremely dangerous.  If a creditor nation were to exchange its holdings of a deficit country’s currency for gold, instead of putting the money into the latter country’s government bonds, it would shrink the money supply of the deficit country–causing a recession.

The negatives of such a system outweigh the positives, however.   First of all, the two positives are themselves two-edged swords.  The first would likely prevent a government from taking counter-cyclical economic measures, subjecting it to periodic very violent economic downturns.  The second potentially turns commerce into a political/military battleground, where it is possible to inflict terrible economic damage on a country by redeeming its currency.

Then, of course, there are issues related to the world’s physical supply of gold.

–It is often pointed out that a static, or very slowly growing supply of gold would mean similar limits on world economic growth.

–One might also look back to the effects of the mid-nineteenth century California gold rush, which made millionaires of many Westerners, including the maker of Levi’s jeans, but unleashed a horrible wave of inflation at the same time that destroyed the real value of the savings of just about everyone else.

–Then, of course, there’s my favorite worry.  It’s that a real-life Goldfinger might steal the gold reserves of a given country (likely a small one), thereby rendering its money worthless and stopping its economy in its tracks.

so, what is Mr. Zoellick after?

He knows all this.   In fact, in any proposal over the years that advocates a return to gold, if you read carefully (or read at all), what’s being said has virtually nothing to do with gold per se.  the “gold” part only provides political cover for countries to agree to a course of action which may imply that they’ve been negligent or imprudent in the past, but doesn’t require that they admit it.  And it allows politicians to deflect blame from themselves if an agreement requires painful measures in the future.  After all, it’s not as if they would be choosing to inflict pain.  Gold is forcing them to.

In this case, the issues are obvious.  Politicians in Washington, and in many capitals in Europe, have been stunningly incompetent in managing economic affairs for a long time.  The Great Recession is only one manifestation of this.  China has reached the point where export-oriented emerging economies have always faced their most difficult challenge–persuading the powerful beneficiaries of the status quo that the country must turn away from exports and toward developing the domestic economy.  All sides realize it is likely political suicide to be seen to be “giving in” to the other.

In this case, popular myths about gold can be made to serve a useful purpose.  Maybe I’ve got to warm up to gold, in this sense at least, after all.

 

 

Gold at $1225 an ounce: a good investment?

June 13, 2010 By in Current Market Thoughts, Gold, Industry Analysis, Recent Market Action Tags: , , , , , , , , , 1 Comment

surging gold price

The gold price has risen by almost 20% so far this year.  The advance is an unusual one, however, in two respects:

1.  Historically, the gold price has typically been stable in strong currency terms.  Much of the apparent strength has been related to depreciation of weaker currencies.  In practice, this has meant the dollar price vs. the euro (or its predecessor, the d-mark).  This year, in contrast, the dollar has been relatively strong.  Nevertheless, the dollar price of gold is up sharply.

2.  The advance is being driven not by demand for jewelry, which is usually the case, but by investment demand.  Last year, investment demand worldwide actually exceeded jewelry demand.  It may do so again in 2010.  Government mints are doing a land office business minting gold coins.  The SPDR Gold Trust ETF has over $50 billion in assets. And the Financial Times reports that commercial banks are considering expanding their vault space for storing physical gold for the first time in thirty years.

two big changes in the market

During the almost thirty years I’ve been watching (often from afar) the gold market, it has undergone two significant changes:

1.  The first is a product of the past seven years..  Thanks to the rise of ETFs, gold is much easier to buy today than it once was.  The SPDR Gold Trust ETF alone holds 1300 tons of the yellow metal, or close to half of the world’s gold production in a year.  It is traded not only in New York but also in Hong Kong, Singapore and Tokyo.  Vehicles like this eliminate the need to have a commodities account and solve the problems of physical storage, potentially high bid-asked spreads and the need to assay the gold on sale.

2.  Gold was money thirty years ago, but has been gradually losing that role since.  In developing countries, many citizens would use gold as a substitute for bank deposits.  Some had to little to be able to afford a bank.  Some worried about currency devaluation.  But many also feared either government seizure of their wealth, or attracting unfavorable attention (think:  China) from the authorities as being budding capitalists.

Wealthy individuals around the world have long since replaced gold holdings with financial instruments.  And greater political stability in large markets for gold like China or India has meant less fear-motivated demand for gold.  Jewelry demand (and not simply near-pure gold jewelry) has become the main driver of gold consumption.

why a price surge now?

Not now, though.  What are the main factors in increasing investment demand?

I think the main reason is that gold is the default choice for people who are worried about the current weakness in developed countries’ economies and don’t see what else they can buy.  Cash provides safety but almost no return.  Government bond yields are extremely low–and in the case of the euro have not delivered anticipated safety.  Stocks, after having come close to doubling since the lows in March 2009, are wobbling.  They also do best in times of strong economic growth–so they depend on conviction in economic expansion that investors don’t currently have.

What’s left?  a gold ETF plus …?

the risks

I’ve never been a real fan of gold.  As I’ve argued in other posts on this blog, I think gold price movements are ultimately driven by the ebb and flow of gold mining projects.  When prices are low, mining companies stop exploring.  When prices are high, they reopen shuttered mines and develop new deposits.

I think the case today is different.  I think investor demand is being driven by aversion to other liquid investments.  My worry about gold is what happens as/when sentiment about the course of the economies of the developing world improves.  To a great degree, generation-ago demand from the developing world for gold as money is no longer present.  The fact that gold has been very easy to buy through ETFs also means it is very easy to sell.  Remember, too, that there’s no assurance that the price you get in selling an ETF in times of distress will come close to net asset value.  Like any stock, your price will depend on where buyers are willing to make a bid.

what to buy instead?

From me, the answer should come as no surprise–stocks.